ResMed shares hit 10-month highs on earnings beat, weight-loss drug tailwinds

A strategy of buying more ResMed RMD shares on any weight loss drug-related selloff in the past 6-7 months would be very profitable right now. A better-than-expected March quarter report last Friday has helped the stock rally more than 12% in the past two sessions.

ResMed shares sold off 4% earlier this month after a late-stage trial of Eli Lilly's weight loss drug – Zepbound – showed positive results in reducing sleep apnea severity among obese adults. The trial showed an average apnea-hypopnea index reduction of up to 63% among participants over a 52-week period.

ResMed's bumper quarter

ResMed reported a pretty clean sweep of March quarter numbers. Here are the key highlights:

• Revenue up 7% to US$1.2 billion

• Gross margin up 260 bps to 57.9%

• Operating cash flow of US$402 million and debt repayments of US$220 million

• Earnings per share of US$2.13

The revenue and EPS figures were 2.6% and 104% ahead of analyst expectations.

“ResMed’s strong third-quarter fiscal year 2024 results reflect robust patient and customer demand for our products and software solutions, leading to double-digit mask and accessories revenue growth," said ResMed Chief Executive Mick Farrell.

A key highlight was a notable recovery in gross margins, which not only surprised analysts but set a positive tone for the coming financial year. The key drivers of this expansion was lower freight expenses and improved manufacturing processes.

Weight loss drugs

Another focal point of the result was management's strategic positioning in the market, particularly with the potential challenges (and opportunities) posed by weight loss drugs.

While there are concerns that anti-obesity drugs could displace CPAP therapy in certain patient categories, management said they are, in fact, driving more patients into the funnel for sleep apnea devices.

"We believe that increased utilisation of GLP-1s to treat obesity will bring many new people into the healthcare funnel, activating them to see their primary care physicians as they strive for weight loss and other medical help," Farrell said at the company's earnings call.

"This will open these patients up to knowledge of their other chronic diseases from their primary care physicians, including awareness of chronic diseases such as sleep apnea, ultimately driving new patients into diagnosis and treatment pathways that may not have previously been considered or being treated for those patients."

ResMed has been tracking the impact of weight loss drugs through patient analysis, using an overlap between their data and third-party claims data. "The bottom line is that the data show that GLP-1s are having a positive impact on patients seeking and adhering to positive airway pressure therapy," said Farrell.

"For patients prescribed a GLP-1 medication, the latest data show a 10.5% higher propensity to start positive airway pressure therapy over those not taking the drug... These data show clearly that these new GLP-1 pharmaceutical class is actually a tailwind for our ResMed business, bringing more patients and more motivated patients into the healthcare system."

Bullish analysts

The average price target across 24 sell-side ratings increased 3.8% to US$213.68 (most analysts' targets for ResMed are priced in US dollars, which trade at a 10:1 basis – this equates to A$32.62 at current exchange rates).

Among the 24 ratings, 71% are buy-rated, 25% a hold and 4% a sell.

The key overweight thesis from Morgan Stanley revolved around:

• ResMed gained material share post the Philips DreamStation recall, providing a larger installed base to grow increased sales of consumables

• Gross margin recovery was impacted by product mix, freight logistics, higher component costs and manufacturing inefficiencies. These factors have alleviated in 3Q24

• Deep-dive analysis suggests GLP-1 risk is overcompensated by share price performance

Putting it all together: ResMed is a perfect example of how a stock can overshoot to both the upside and downside. The stock sold off almost 40% between early August and late September 2023 on fears that weight loss drugs could replace their medical devices. And now, the stock is up a little over 50% in the past six months. Analysts remain broadly optimistic with expectations for continued growth in device sales as well as margin improvements and market expansion initiatives.